c. Role of Property Rights: When property rights are created
they provide a means of exclusion and therefore move items in the left-hand
side of the diagram to the right-hand side of the diagram. Normally, goods
are non-exclusive because the transactions costs of exclusion are too high
(i.e. the number of parties involved is typically quite high). But ingenious
entrepreneurs who discover ways to lower the transactions costs of exclusion
will be rewarded with profits.

d. Classifying Goods: Goods are not classified forever in one place;
their classification depends on the institutional arrangements and how
these develop over time.

e. Is Information a Public Good?

(1) Cooter and Ulen argue that information for producers is
a public good because it is non-rival (one person's consumption of a unit
of information does not reduce any one else's consumption of that same
unit of information) and non-exclusive (once a unit of information is produced
and transmitted to another person the recipient cannot be prevented from
reselling the information again at relatively low cost). The inability
to prevent resale means that producers cannot appropriate the full value
of what they produce and will under-produce information. Additionally,
potential consumers cannot estimate the value of the information before
receiving it. As a result:

(a) Government should either produce all of the information
itself (weather forecasting); subsidize private parties to get more of
it (basic research); establish property rights in the information (the
patent or copyright systems); or regulate the private production of information
(such as the FDA or SEC)

(b) All of these actions should produce more information, solving the
free-rider problem.

(2) Information is largely a toll good: non-rival and exclusive. Information
is an experience good (a good whose value will become apparent only after
it has been purchased) instead of a search good (whose value can be ascertained
before purchase). As a result, producers/sellers depend on repeat sales
and reputation which disciplines them and gives consumers some notion of
the value of the information before purchase. Also if information can be
transmitted in a relatively excludable manner then there is an incentive
to produce information. Note that:

(a) The transmission of information requires that information
first be collected, then organized, stored, and then retrieved for transmission;
thus significant resources must be devoted to these activities which tends
to prevent most free-riders from retransmitting the information. That is,
technical constraints deter most free-riding (but not all).

(c) Klein (1997) observes that Consumers Union, Credit Bureaus, Underwriters'
Laboratories, and the Better Business Bureau all produce information privately
without government intervention.

(d) Even if information is a public good in some situations that does
not imply that government should intervene and impose some policy. The
institutional context within which information is produced also matters.
See below.

f. There are Few Public Goods. The following are not public goods
(can you explain why?):

(1) Roads

(2) Schools (Education)

(3) Parks

(4) Police services

(5) Courts

(6) Airspace (see text p. 107)

(7) The ocean (see text p. 107)

2. Example of the Public Goods Argument

a. Cooperative solution: 1,000 farmers want to build a dam
upstream-i.e., they want to privately produce a public good. (A dam produces
flood control which is both non-exclusive-once it is in place, anyone who
lives along the river and does not pay for flood control services can still
obtain them-and non-rival-one farmer's consumption of flood control services
does not prevent other farmers from consuming the same service at the same
time.) Notice that 500 farmers have land next to the river on both sides
and 500 farmers have land next to the first 500 farmers (meaning they are
further from the river and therefore suffer lower damages when the river
floods). If all farmers voluntarily contribute then we get:

Results: A smaller dam is built with free-riders (a $50,000 size dam which
generates $475,000 in net benefits versus $450,000 size dam). It is also
possible that the dam won't be built at all. Therefore, flood protection
from the dam is under-produced or not produced at all (i.e., produced inefficiently)
when public goods are privately produced.

c. Summary: In small numbers situations, it is highly likely that public
goods can be efficiently provided by private parties because the transactions
costs of achieving agreement are relatively low and the ability to identify
free-riders is relatively easy (the cost of being a free-rider in a small
group is high). So the small numbers situation should result in the cooperative
solution. But in large numbers situations, as above, it is more likely
that public goods cannot be efficiently provided by private parties
because transactions costs of achieving agreement are high and the ability
to identify free-riders is more difficult (the cost of being a free-rider
in a large group is relatively low).

3. Solutions to the public goods problem:

a. The Mainstream View-The Free Rider Problem and the Justification
of Government Provision: The example of the dam with large numbers of farmers.

(1) High transactions costs prevent the farmers from negotiating
among themselves.

(2) Therefore the government uses coercion to lower transactions costs:
Government taxes some farmers $600 and other farmers $300 (for a total
of $450,000) and eliminates the problem of free-riders.

(3) In general, private producers cannot solve the free-rider problem
because they must rely on voluntary exchanges. In contrast, government
can solve the free-rider problem by coercing free riders into paying for
their share of the public good (through taxes). Therefore, when government
finances the provision of public goods, the inefficiency of private provision
is significantly reduced or eliminated.

b. A Critique of the Mainstream View: Critics of this view argue that government
merely transforms the free-rider problem into a forced-rider problem. The
mainstream view assumes that government levies taxes according to the benefits
received. That is, if farmers 1 through 500 receive relatively large benefits
from flood control but farmers 501 through 1000 receive smaller benefits
from flood control, then farmers 1 through 500 should pay higher taxes
($600) while farmers 501 through 1000 should pay lower taxes ($300). But
there is no accurate way for government to determine how much each farmer
benefits from the provision of flood control. This means that taxes must
be levied in a manner that will not match the benefits derived from the
public good (such as each farmer paying $450): some farmers will pay too
little (easy-riders) while others will pay too much (forced-riders).

(1) The government solution is redistributive: it eliminates
free-riders but creates forced riders (those who value public goods less
than their tax price) and easy riders (those who value public goods more
than their tax price). This is a cross-subsidy from forced riders to easy
riders.

a. The Public Interest Approach: This approach assumes that
government legislators and bureaucrats will act in the public interest
to provide only those public goods which produce net benefits for their
principals, the voters. Thus the institutional context for the provision
of public goods is irrelevant; all that matters is the intentions of the
providers.

b. The Public Choice/Institutional Approach: Political institutions
do not have direct, transferable ownership shares. But voters (principals),
as a group, elect agents who represent them in the government. Most voters
have widely dispersed interests and find it difficult to organize and lobby
their agents because the transactions costs of organizing and coming to
an agreement are quite high (the large numbers problem). But some voters
have a more concentrated interest in a single issue find it easy to organize
and lobby their agents (the small numbers situation). This asymmetry in
organizing costs gives organized groups a comparative advantage in gathering
and interpreting complex information.

(1) Well organized groups will be able to monitor their agents
(legislators and bureaucrats) very well because they can discover and understand
information concerning a single issue with relative ease (these groups
have the resources to hire experts such as lawyers, accountants, etc. who
help them understand the impact of complex laws on their actions) and influence
the actions of government agents accordingly. Government agents must heed
the pressures brought to bear by these organized groups or pay the price
and so are very responsive to them.

(2) Unorganized voters face very high transactions costs of discovering
and understanding the effects of complex laws and of influencing legislators.
As a result, government agents have significantly more slack to pursue
their own interests and the interests of organized groups while ignoring
the interests of unorganized voters. This also means that elections do
not discipline government agents who ignore the wishes of unorganized voters.

(3) Results: Government agents act on behalf of special interests who
obtain benefits which are paid for largely by unorganized voters (special
interests can externalize costs onto unorganized voters) and who have strong
incentives to increase the complexity of rules so that the special interests
can achieve a comparative advantage in information discovery (i.e., special
interests have a strong incentive to increase asymmetric information problems).
Government agents also tend to have a short time horizon because of their
lack of property rights-legislators must run for election periodically
and tend to support legislation that promises significant short-run benefits
that appear before an election (or oppose legislation that imposes significant
short-run costs) and bureaucrats will support actions that have short-run
benefits (and postpone actions that have short-run costs) because their
tenure in office is relatively short (primarily because most bureaucrats
will move to the private sector where their government contacts allow them
to earn a salary many times what they were earning in government service).

(4) Summary: The previous results (the inefficiencies that arise from
the incentive to externalize costs, to widen and exploit information asymmetries,
and the incentive to be short-sighted) are all characteristic of the institutional
arrangement known as the open access commons.

(5) Political Entrepreneurs have incentives to increase transactions
costs for unorganized voters (not lower them) while simultaneously lowering
transactions costs for organized groups (so that the latter groups may
more readily exploit the former ones).

(6) The inefficiency generated by rent-seeking is quite large. Rent-seeking
occurs when organized groups compete for the right to transfer resources
to themselves from unorganized voters. Since government agents have control
over these transfer rights, organized groups are willing to spend large
amounts of resources to convince government agents to transfer wealth to
themselves instead of their competitors. Rent-seeking is thus highly inefficient
because the resources used to transfer wealth (a zero-sum game) could have
been used to create it (a positive-sum game) instead.

(7) Inefficiency of a Monopoly Provider: The lack of competition means
that government providers will typically supply a given service at greater
cost than private providers who face competition would.

(8) Government agencies do not have a good record when it comes to regulating
information. See Calfee, 1992, Rubin, 1995; and Tabarrok, 1999 for the
effects of the Food and Drug Administration's regulation of advertising;
see Benston, 1983 for the effects of the Securities and Exchange Commission's
regulation of information disclosure. Alternatively, private parties have
a good record. See Campbell, 2000.

(9) When all of the inefficiencies of government are also considered
it is not clear that the private provision of public goods is less efficient
than government provision of them.